Give Ohio teachers control over their own retirement

The soap opera at the State Teachers Retirement System (STRS), the entity that manages Ohio’s teacher pensions, has made non-stop headlines of late. The turmoil includes complaints from retirees about meager cost-of-living adjustments (COLAs) in an age of sky-high inflation, STRS staff bonuses paid in a year when the system lost billions, an investment wipeout tied to the Silicon Valley Bank collapse, and the suspension of the STRS executive director. The latest is an allegation from Attorney General Dave Yost that two STRS board members pushed a questionable investment deal behind the scenes. Looming in the background is a system that has amassed some $20 billion in unfunded pension liabilities and is lobbying the legislature to increase employer contribution rates—a move that would take another bite out of school budgets—to fill some of that gap.

Ohio teachers deserve better. Their hard-earned money shouldn’t get funneled into a troubled pension system. Taxpayers, who could be asked to foot the bill if contribution rates rise, deserve better, too. And so do students, who may suffer if pension payments divert more dollars from the classroom.

What to do? Remembering the adage “if you’re in a hole, stop digging” would be a good place to start. In that vein, let us first pause and consider why STRS seems to face such endless drama—and then consider what Ohio could do to improve the situation.

A key problem facing STRS—and other public pensions, too—is that high-stakes decisions about other people’s money and retirements are made centrally through a political process. In a traditional pension (“defined benefit”) system, retirement contributions go into a big old pot, i.e., the “pension fund,” which is used to pay out benefits. Policymakers and bureaucrats are charged with making decisions about how those dollars are invested and how retirement benefits are determined.

Even without myriad scandals that can ensue, politics puts tremendous stress on this model. In the case of STRS, teachers, often via union representatives, push for more generous benefits and bigger investment returns. State officials must then wrestle with these demands (and sometimes resist them) based on fiscal or risk-taking implications. Even if they acquiesce, yet another round of demands is likely to follow. So the cycle continues, with the tussling done in the public eye and billions of dollars at stake.

So long as questions about teacher pensions—including contribution rates, investment allocations, and COLAs—are settled in the political arena, STRS will remain under intense scrutiny. It’s not just STRS, either. Any number of public pension systems have also been embroiled in controversy. And like STRS, the largesse needed to appease special interests has put many of them on shaky financial ground.

The way out is to stop propping up this byzantine system and move to a modern approach that gives teachers control of their own retirement. To do this, Ohio should more fully leverage its “defined contribution,” or 401(k)-style, retirement plan. As most private sector workers know—and some in the public sector, too—this model allows employees to save for retirement via contributions to a personal savings account. The funds are “portable” as employees can change jobs without penalty—an appealing feature in today’s mobile economy. From an employer perspective, these plans are easier to manage, as no pension debt accrues, no complex actuarial calculations are needed, and the costs of retirement benefits are clear (i.e., the amount an employer contributes to workers’ accounts).

The good news is that Ohio has already established a 401(k)-style defined contribution option for teachers, managed by STRS.[1] Under this plan, teachers contribute 14.0 percent of their salary for retirement, while their employer contributes another 11.1 percent—good for a combined 25.1 percent contribution, a rate that is considered to meet the “best practice standard” by the Reason Foundation. Teachers may choose from various investment options offered by STRS, and to address concerns about outliving savings, STRS provides an option to convert funds into an annuity that provides a lifetime stream of income. To top it off, pension expert Chad Aldeman has shown that Ohio teachers in the defined contribution plan accrue substantially more retirement wealth than their counterparts in the traditional pension.

But here’s the rub: Only a small minority of teachers participate in the defined contribution plan (approximately 3 percent). One likely reason is that Ohio nudges teachers into the traditional pension plan by making it the default when entering teachers do not make an affirmative choice. The state also forbids existing teachers—once they’re in the traditional pension—to switch to the defined contribution plan. It’s also possible that the unions, which have long favored traditional pensions and are dominated by more senior teachers, might even influence the decisions of new teachers. These policies and practices discourage teachers, whose contributions are needed to help cover retirement liabilities, from participating in the 401(k)-style plan.

State legislators have a couple of options when it comes to moving teachers towards a 401(k)-style model. One possibility is to switch the default option for entering teachers to the defined contribution plan—something that is likely to drive more teachers in this direction. A more direct option would be to simply close the traditional pension plan to entering teachers (while preserving the status quo for current teachers and retirees) and offer only a defined contribution plan moving forward.[2] Several other states have done this for public sector workers, as have numerous private employers. Though not likely an easy transition—it would require a plan (and probably money) to cover existing pension promises to teachers—this type of “soft freeze” would be a first step in permanently ending the traditional pension and the long-term risks it poses to the state, taxpayers, and schools.

Some may also worry that these moves could stir a hornet’s nest. That’s a fair concern, and leading this change wouldn’t be for the faint of heart. Yet beneath the union front, survey data suggest that teachers are open to 401(k)-style plans. In a recent national survey of public employees, Joshua Rauh of Stanford University found that nine in ten said they would be willing to switch to a defined contribution plan, provided their employers make a sufficient contribution (10 percent of salary was the median amount). A national survey by the Equable Institute found that a slight majority of teachers (54 percent) indicate an openness to a change in retirement models.

Political backbiting and fiscal excess are baked into the traditional pension model, so it’s hard to believe that the drama at STRS will simply go away. The time has come to end the spectacle. Let’s stop making educators pawns in a massive pension scheme and instead treat them like the adults and professionals they are. It’s time to let Ohio teachers chart their own course to retirement.